Adam Corlett: A chance for the coalition to scrap an entire tax

Adam Corlett is a researcher at CentreForum and author of a recent report on National Insurance for the self-employed. You can follow him on Twitter here.

The government has launched a consultation on simplifying one form of National Insurance for the self-employed. But the Conservatives and Liberal Democrats can be bolder. For a cost of under £260m, it could scrap this entire class of National Insurance. We all know that National Insurance makes the tax system unnecessarily complicated and opaque. For a start, there’s Class 1 (both primary and secondary), Class 1A, 1B, 2, 3 and 4. It’s disappointing therefore that the coalition has shied away from major reform in this area.

Those with self-employment income pay Class 4 – at a basic rate of 9 per cent – as well as Class 2: a fixed charge of £141 per year. At present, these are dealt with through two separate processes. Following advice from the Office of Tax Simplification, HMRC has just launched a consultation on bringing these within the same, end-of-year assessment process. But by sticking within the OTS’s revenue-neutral remit, the Chancellor is missing a trick.

Class 2 brings in only £350m per year – less than a third of one per cent of National Insurance revenue. It is a poll tax that kicks in at only £5,725 – far below the £10,000 that the coalition has ‘taken out of tax’. It’s regressive, creates a small cliff edge (you’re okay if your profits are £5,724), and means self-employed workers on low incomes paying more tax than employees on the same incomes.

This tax should be abolished. To fund it, a reasonable change would be to increase the Class 4 rate to 10.5 per cent. But if George Osborne wished, he could target the tax cut and reduce the cost without creating any losers. Increasing the Class 4 rate to 9.4 per cent would take almost £100m off the cost and ensure the tax cut were targeted on low incomes, without anyone losing out. That leaves £260m to scrap an entire form of tax. And that’s before we consider any dynamic effects on tax take. There will be government savings too: as an indication, HMRC’s bill for administering National Insurance is around £350m.

The only technical change needed is to reform the way contributions are recorded, such as for state pension eligibility. Benefit eligibility must be shifted to Class 4, mirroring the process for employees’ contributions – which have not been based on a fixed stamp since 1975. Scrapping Class 2 National Insurance should be high on the list of options for the Autumn Statement and Budget 2014. It’s a chance for the coalition parties to make some progress on simplifying the tax system, help the UK’s small businesses and end a poll tax.